Interpretive Letter to Gordon C. Ogden, III, Profinancial, Inc.
January 18, 2000
Gordon C. Ogden, III
4000 S. Sherwood Forest Blvd, Suite 603
Baton Rouge, LA 70816
Re: Application of NASD Conduct Rule 2420
Dear Mr. Ogden:
I am responding to your letter of September 23, 1999, to the National Association of Securities Dealers, Inc. ("NASD") wherein you ask whether a joint sales effort by a member firm and a non-member real estate firm would violate NASD Rule 2420.
You have described the facts as follows. Profinancial, Inc. ("Profinancial"), a registered broker/dealer and member of the NASD, intends to engage in a private placement of securities consisting of participations in real estate condominium complexes. Investors will purchase either a fee simple ownership or an undivided interest in an individual condominium, and title to individual condominium units will pass to individual investors. All condominiums will be rented to the general public subject to a single rental management contract. Investors will receive a prorata share of income, if any, of the entire condominium project, and will rely upon the management expertise of a single manager of the project.
The condominium units are subject to a contractual listing agreement with Realtors. Realtors will not advertise the condominiums. A prospective investor may discuss the local real estate market and the specific condominium that is subject to a listing agreement with a Realtor. Realtors will refer all condominium purchase inquiries to licensed securities brokers. Securities brokers will discuss the investment offering with the prospective investor, who will receive a prospectus and approved sales literature only from Profinancial. The issuer of the securities and Profinancial also will be responsible for discussing the risks and merits of the investment with each investor, determining suitability, escrowing the sales proceeds, maintaining files, and complying with all applicable securities statutes. All fees and commissions, including real estate commissions, mortgage financing fees, securities commissions, and other costs will be paid either from escrow or by the issuer to each respective party subject to separate contractual agreements which will be fully disclosed in a prospectus. Real estate firms will secure real estate commissions upon the sale of each condominium, and Profinancial will secure a securities commission. Profinancial will not pay securities commissions or other forms of compensation to a Realtor, mortgage lender, or other party.
You ask whether NASD Rule 2420(b)(2) or any other NASD rule prevents a member from participating in the distribution of such securities because of the involvement of Realtors, the issuer, mortgage lenders, accountants, lawyers, or existing condominium owners acting in the normal and usual capacities of their profession or status.
NASD Regulation cannot assure you that the proposed private placement would not violate NASD rules.
NASD Rule 2420(a) has been interpreted to prohibit, among other things, payments of securities commissions to non-member broker/dealers, and applies equally to non-members that are not registered as broker/dealers under the Securities Exchange Act of 1934 ("Exchange Act"), but are required to be so registered.1 In addition, NASD Rule 2420(b)(2) states that a member may not "join with any non-member broker or dealer in any syndicate or group contemplating the distribution to the public of any issue of securities or any part thereof." The activities described in your letter raise the question of whether the Realtors or persons acting on behalf of the issuer would be required to register as broker/dealers under the Exchange Act. The staff of the Securities and Exchange Commission ("SEC’) regularly issue interpretations on whether an entity is required to be registered as a broker/dealer.2 You may wish to direct your inquiry to the SEC’s Division of Market Regulation, Office of Chief Counsel. If the Realtors or any other persons proposing to engage in the activities as described in your letter would be acting as unregistered broker/dealers, then Profinancial’s participation in the private placement may violate NASD Rule 2420.
I hope this letter responds to your inquiry. Please note that the opinions expressed herein are staff opinions only and have not been reviewed or endorsed by the Board of Directors of NASD Regulation. This letter responds only to the issues that you have raised based on the facts as described, and does not address any other rule or interpretation of the Association, or all the possible regulatory and legal issues involved.
Robert J. Smith
Assistant General Counsel
1 While your letter states that the Realtors will secure "real estate commissions" upon the sale of each condominium and that Profinancial will secure a "securities commission," it is unclear how the compensation would be determined.
2 See, e.g., SEC Denial of No-Action Relief to The Snowy Owl Inn Condominium Unit Owners’ Association (Nov. 17, 1992) (SEC staff denied request for no-action relief regarding the resale of condominium hotel units with a mandatory agency agreement by real estate brokers who were not registered broker/dealers).